U.S. patent application number 10/621916 was filed with the patent office on 2004-06-17 for methods and systems for rating financial reporting of public companies and rating the performance of accounting firms.
Invention is credited to Germack, Victor F...
Application Number | 20040117283 10/621916 |
Document ID | / |
Family ID | 32511156 |
Filed Date | 2004-06-17 |
United States Patent
Application |
20040117283 |
Kind Code |
A1 |
Germack, Victor F.. |
June 17, 2004 |
Methods and systems for rating financial reporting of public
companies and rating the performance of accounting firms
Abstract
The invention provides methods and systems for rating corporate
financial reporting and systems and methods for rating accounting
firms. According to one embodiment, public filing information for a
company is obtained and separated into predetermined rating
categories. The company is then rated in each of the rating
categories as well as on an overall basis. According to another
embodiment, an average financial performance rating of companies
audited by an accounting firm is determined, financial information
regarding the accounting firm is obtained, and the accounting firm
is then rated.
Inventors: |
Germack, Victor F..; (New
York, NY) |
Correspondence
Address: |
GLEN E. BOOKS, ESQ.
LOWENSTEIN SANDLER PC
65 LIVINGSTON AVENUE
ROSELAND
NJ
07068
US
|
Family ID: |
32511156 |
Appl. No.: |
10/621916 |
Filed: |
July 17, 2003 |
Related U.S. Patent Documents
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Application
Number |
Filing Date |
Patent Number |
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60396895 |
Jul 17, 2002 |
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Current U.S.
Class: |
705/35 ;
705/36R |
Current CPC
Class: |
G06Q 30/02 20130101;
G06Q 40/06 20130101; G06Q 40/02 20130101; G06Q 40/00 20130101 |
Class at
Publication: |
705/035 ;
705/036 |
International
Class: |
G06F 017/60 |
Claims
What is claimed is:
1. A method for rating financial reporting of public companies,
comprising the steps of: obtaining public filing information for a
company; separating the obtained public filing information into
predetermined rating categories; and rating the company in each of
the rating categories, using the separated public filing
information.
2. The method of claim 1, wherein the public filing information
includes information required by the Securities and Exchange
Commission to be publicly filed.
3. The method of claim 1, wherein at least some of the public
filing information is provided as structured information stored in
a database.
4. The method of claim 1, wherein rating the company includes
assigning a score for each of the rating categories.
5. The method of claim 1, wherein rating the company includes
assigning an overall score.
6. The method of claim 5, wherein at least one of the rating
categories is accorded a greater weight to the overall score than
the others.
7. The method of claim 1, wherein rating the company includes
assigning one or more star for each of the rating categories.
8. The method of claim 1, wherein rating the company includes
assigning an overall rating of one or more star.
9. The method of claim 1, wherein rating the company includes
comparing the company to other companies in its peer industry
group.
10. The method of claim 1, wherein rating the company includes
comparing the company to other companies that were rated.
11. The method of claim 1, wherein the rating categories include
one or more of (1) areas of financial concern and/or potential
financial exposure; (2) accounting policies and practices; (3)
financial footnotes; (4) management description of operating and
financial results; and (5) corporate governance.
12. A method for rating quality of earnings and accounting grading
for a company, comprising the steps of: obtaining public filing
information for a company; determining a weight for each of a
plurality of factors, using the obtained public filing information;
rating the company based on the determined weights for the factors,
wherein at least some of the factors are weighted differently; and
ranking the company in relation to other companies that were
rated.
13. The method of claim 12, wherein the weight for each factor is
determined to be one of high weight, moderate weight, and low
weight.
14. The method of claim 13, wherein the high weight factors are
weighted approximately twice that of the moderate weight
factors.
15. The method of claim 14, wherein the low weight factors are
weighted approximately half that of the moderate weight
factors.
16. The method of claim 12, wherein the factors include one or more
of: (1) whether a charge for discontinued operations is positive;
(2) whether the current quarter ratio of gross profit to net sales
has increased over the average ratio for the prior four quarters by
more than a predetermined percent; (3) whether a charge for
extraordinary items is positive; (4) whether any of the following
is present: impairment-assets held for use; amortization of
intangibles; and net goodwill changed from the previous quarter by
more than a predetermined percent; (5) whether a restructuring
charge is present; (6) whether a charge for purchase R&D
written-off is present; (7) whether a financial restatement
occurred; (8) whether either of the following improves earnings by
more than a predetermined percent: loss (gain) on sale of
assets--operating; gain (loss) on sale of assets; (9) whether a
charge for any of the following is present: interest capitalized
(operating); interest capitalized (non-operating); interest
capitalized (supplemental); (10) whether the ratio of unusual
expense (income) to sales is greater than a predetermined percent;
(11) whether a charge for accounting change is positive; (12)
whether the difference in the year-over-year change in total
inventory exceeds the difference in the year-over-year (4-quarter
sum) change in net sales by more than a predetermined percent when
sales decline or by more than a predetermined percent when sales
increase; (13) whether the charge for accounting change is
negative; (14) whether a charge for discontinued operations is
negative; and (15) whether a charge for extraordinary items is
negative.
17. A method for rating the performance of an accounting firm,
comprising the steps of: calculating an average financial
performance rating of companies audited by the accounting firm;
obtaining financial information regarding the accounting firm,
including public filing information; and rating the accounting firm
using the calculated average financial performance rating and the
obtained financial information.
18. The method of claim 17, wherein rating the accounting firm
includes rating the accounting firm in several categories.
19. The method of claim 18, wherein the categories include one or
more of average rating for companies audited by the accounting
firm, auditing problems, financial footnotes, and regulatory
actions and lawsuits.
20. The method of claim 17, wherein rating the accounting firm
includes comparing the rating with peer group results.
21. The method of claim 17, wherein the rating is calculated on a
moving average basis.
Description
CROSS REFERENCE TO RELATED APPLICATIONS
[0001] This application claims the benefit of U.S. Provisional
Application Serial No. 60/396,895, filed on Jul. 17, 2002,
incorporated by reference herein in its entirety.
BACKGROUND OF THE INVENTION APPLICATION
[0002] 1. Field of the Invention
[0003] The invention is directed to methods and systems for
evaluating and rating the financial reporting practices of public
companies and the performance of major accounting firms.
[0004] 2. Background of the Invention
[0005] There has been a continuing series of problems concerning
corporate disclosures and accounting practices. Overly aggressive
accounting practices have inflated corporate income statements and
balance sheets. As a result, investor confidence has been
negatively impacted, which, in turn, has significantly affected the
financial markets, hundreds of billions of dollars of market value
has been erased, and the credibility of the accounting profession
has been seriously eroded.
[0006] Organizations formed to regulate and provide
accounting-practice information have not been able to fully address
the problem. According to a recent report from the General
Accounting Office, the Security and Exchange Commission's ("SEC")
workload increased by 80% in the 1990s, but its staffing rose only
20%. In 2001, for example, the SEC reviewed only 16% of all annual
reports. Even the credit agencies such as Standard and Poor's
Corporation ("S&P") and Moody's have come under criticism for
their delayed ratings downgrades, particularly in the cases of
Enron and Global Crossing.
[0007] Information and statistics relating to companies' revenue is
very important to investors. Unfortunately, however, there is no
uniform standard relating to revenue reporting and no single
standard for revenue recognition. GAAP is considered the "Gold
Standard" in presenting a corporation's financial results. GAAP is
a rules-based system. Its opponents, however, say it is too
detailed and technical and is open to manipulation. The nation's
accounting rule-making body, the Financial Accounting Standards
Board ("FASB") is seeking to broaden the existing rules regarding
revenue recognition and to clarify many other rules. But the FASB
itself has come under intense criticism for caving in to pressure
from corporations and accounting firms, when they sought to tighten
their standards particularly as they relate to special purpose
entities. Compounding investors' concerns and causing additional
investor confusion is the widespread use of pro form a accounting
methods rather than using GAAP methods for earnings'
comparisons.
[0008] Treatment of stock options is another problem area. U.S.
companies often expense the cost of stock options for tax purposes,
which is quite aggressive, and which is not reflected on their GAAP
profit and loss statements. Almost all U.S. companies exclude the
cost of stock options in calculating net income. The conservative
approach is to include the expense of stock options in calculating
net income. There have been repeated calls for changing the
accounting treatment for stock options.
[0009] S&P has recently adopted a new formula, which uses a
conservative approach, in calculating earnings. S&P found each
of the alternative definitions of earnings to be deficient--
whether it is reported earnings, operating earnings, or pro form a
earnings. Many consider the pro form a earnings approach to have
been misused and abused. S&P came up with the concept of "core
earnings", which S&P defines as, "after-tax earnings generated
from a corporation's primary business or businesses". Using the old
definition of earnings, the S&P shows a P/E multiple of 22
times. Under S&P's "core-earnings" approach, the P/E multiple
increases to 30 times earnings, as of May 20, 2002. These changes
speak to the need for clearer, transparent, more consistent and
conservative financial reporting.
[0010] Recent major bankruptcies and numerous settlements have
eroded the credibility of major accounting firms. The main issue is
the independence of the auditor and the quality of the work that is
performed. Many accounting firms provide both auditing and
consulting services to their clients, which presents an enormous
conflict. It goes to the issue of accounting firm independence. It
is particularly troubling when accounting firms profit more from
non-audit fees than from audit fees.
[0011] In summary, numerous accounting problems and widespread
investor concerns have brought to light the pressing need for
methods and systems for evaluating, rating, and ranking the
financial reporting of public corporations and of evaluating,
rating, and ranking the completeness, accuracy, and integrity of
the auditing work performed by accounting firms that audit public
corporations.
3. SUMMARY OF THE INVENTION
[0012] The invention provides methods and systems for evaluating
and rating corporate financial reporting and methods and systems
for evaluating and rating accounting firms that will offer
substantial benefits to investors and help to restore their
confidence.
[0013] According to one embodiment, public filing information for a
company is obtained and separated into predetermined rating
categories. The company is then rated in each of the rating
categories as well as on an overall basis. According to another
embodiment, a company is rated using a plurality of financial
factors which are correlated and related to quality of earnings and
accounting grading. A weight for each of a list of the factors is
determined. At least some of the factors are weighted differently
(e.g., high-weight factors, moderate-weight factors, and low-weight
factors). According to another embodiment, an average financial
performance rating of companies audited by an accounting firm is
determined, financial information regarding the accounting firm is
obtained, and the accounting firm is then rated.
[0014] Various aspects of the present invention utilize a
rules-based computerized system. The rules-based computerized
system is provided with financial information derived from U.S.
Securities and Exchange Commission data. The financial information
used by the invention can be obtained by various financial
information providers such as, for example, MULTEX, COMPUSTAT, and
MEDIA GENERAL, and stored as structured information in a database.
Alternatively, the financial reporting information can be directly
obtained from the financial reports or by using the EDGAR Online
database, which provides access to such reports via the
Internet.
4. BRIEF DESCRIPTION OF THE DRAWINGS
[0015] Various exemplary embodiments of this invention are
described in detail with reference to the following figures, where
like numerals reference like elements, and wherein:
[0016] FIG. 1 is a block diagram showing rating categories used to
rate financial reporting of a company;
[0017] FIG. 2. is a flow diagram outlining an exemplary technique
for rating a company;
[0018] FIG. 3 illustrates an exemplary report with rating
information; and
[0019] FIG. 4 is a block diagram showing rating categories used to
rate the performance of accounting firms.
5. DETAILED DESCRIPTION OF THE INVENTION
[0020] A preferred implementation of the present invention utilizes
the Application Service Provider (ASP) or Web server model. As is
understood by those of skill in the art, an ASP is an entity that
offers individuals and enterprises access to the Internet (or other
communications network) to applications and related services that
would otherwise have to be located in local computers and/or
devices.
[0021] Exemplary data processing systems which may be utilized in
accordance with embodiments of the present invention include, but
are not limited to, Sun MicrosystemsE, Apple.RTM., IBM.RTM., or
IBM.RTM.-compatible personal computers and workstations. However,
it is to be understood that various computing devices and
processors may be utilized to carry out embodiments of the present
invention without being limited to those enumerated herein. An
exemplary operating system may include LINX.RTM., UNIX, Windows
98.RTM., Windows 2000.RTM., or Windows NT.RTM..
[0022] The Web server for use in the invention is configured to
handle communications with client devices and other devices that
are in communication with the communications network. Web servers
are well understood by those of skill in the art.
[0023] 5.1 Rating the Reporting of Financially Relevant Information
of a Plurality of Companies
[0024] In one embodiment, the invention provides methods and
systems for evaluating and rating companies in a corporate target
market for the quality, content, and completeness of the reporting
of financially relevant information and outlining areas of concern
or potential financial exposure that the companies' reporting might
reveal. The methods and systems of the invention use key Securities
and Exchange Commission reporting requirements -10Ks, 10Qs, 8Ks,
proxies, etc. and key company financial press announcements.
Preferably, rating reports for each company are prepared on a
periodic basis (e.g., a quarterly and/or annual report).
[0025] The phrase "corporate target market" or "selected
companies", as used herein, means a particular set of companies
selected for evaluating using the methods and systems of the
invention. Preferably, the corporate target market comprises the
S&P 500.
[0026] According to an embodiment of the invention, each company in
the corporate target market is evaluated and rated according to
each of the five rating categories shown in FIG. 1, namely:
[0027] (a) Areas of financial concern or potential financial
exposures
[0028] (b) Accounting policies and practices;
[0029] (c) Financial footnotes;
[0030] (c) Management's discussion and analysis;
[0031] (d) Corporate governance.
[0032] Preferably, the selected companies are compared to each
other and against all companies in their peer industry group. As a
result, each company that is rated receives an individual rating in
each of the five rating categories and an overall single summary
rating, preferably, expressed as a star rating and also as a
number.
[0033] Referring to FIG. 2, according to one embodiment of the
invention, the following steps are performed: Collecting the key
public filings (such as the 8Ks, 10Ks, 10Qs, Annual Reports,
Proxies, etc.) for each company in the corporate target market
(step 201); separating information contained in the filings
according to the rating category for which it is relevant (step
202); reviewing and summarizing the material and information
corresponding to each of the five rating categories (step 203);
rating the company in each of the five rating categories and
determining a general or summary rating for each company and
entering the ratings into a computer for computation and analysis
and for comparison with prior-period and yearly results (step 204);
totaling, averaging, and analyzing the rating results for each
industry group (step 205). Preferably, each company's ratings are
compared against its peer group's results, on an average and
quartile-ranking basis.
[0034] Preferably, in each of the five rating categories, the
highest rating is five stars or the number 5 and the lowest rating
is one star or the number 1. Each rating category is accorded about
equal weight, except that the "areas of financial concern or
potential financial exposure" is weighted higher, for example, from
about 50% to about equal to the total of the other four rating
categories. Thus, according to this weighting and point system, the
highest number available to an individual company in the corporate
target market is 40 (i.e., 5 points each for the first four
criteria, giving a total of 20 plus 20 for the rating category of
"areas of concern or potential financial exposure").
[0035] FIG. 3 illustrates an exemplary report containing rating
information for a particular company. As depicted in FIG. 3, the
company rated is E.I. du Pont de Nemours and Company. The company
received an overall rating of 22 points out of a possible 40
points, and an overall three stars. The company also received
ratings in each of five categories.
[0036] 5.1.1 Areas of Financial Concern or Potential Financial
Exposure
[0037] According to the invention, the rating category of "Areas of
Financial Concern or Potential Financial Exposure" is evaluated and
rated. Preferably, a written description of the major findings is
provided. This measure includes actual or potential problems or
exposures impacting revenues, earnings, margins, write-offs, etc.
The quality of earnings of the company is closely examined.
According to this aspect of the invention, the areas that are
evaluated in reaching a rating may include, but are not limited to,
one or more of the following:
[0038] (a) Whether cash generated by the company tracks
earnings.
[0039] (b) Whether there are revenue-recognition issues, for
example, does the company follow other companies' practices in its
peer industry group and whether its accounting for revenue
practices are conservative or aggressive.
[0040] (c) Whether there is impairment of goodwill or other
intangible assets.
[0041] (d) The company's track record with respect to discontinued
operations write-offs.
[0042] (e) The nature and extent of off-balance sheet arrangements
and Special Purpose Entities. For example, whether the Special
Purpose Entity has a legitimate business purpose and whether the
company implicitly guarantees their Special Purpose Entities. Does
the company have a track record of aiding their Special Purpose
Entity, particularly, when failure to do so might hurt their credit
standing in the capital markets? Furthermore, are the associated
risks reflected on the company's balance sheet?
[0043] (f) The nature and extent of related-party transactions,
such as the business purpose and whether there is full financial
disclosure. If conflicts of interest exist in such related party
transactions, are they identified? Is the potential financial
exposure quantified? Is off-balance sheet debt or parent guarantees
fully disclosed?
[0044] (g) Has or will the company violate its debt covenants or
been hit with tougher credit restrictions by their lenders?
[0045] (h) Does the company's management disclose how it makes
accounting policy decisions?
[0046] (i) Does the company make changes in its accounting policies
without adequate disclosure or rationale?
[0047] (j) Does the company discuss the risks associated with their
financing or trading partners, known as counter-parties?
[0048] (k) Is there a full disclosure about the financial risks
from asbestos or other products-liability issues?
[0049] (l) How does the company's management determine the fair
market value of non-exchange-traded financial and commodity
contracts? And is this consistent with other companies in its peer
group?
[0050] (m) What is the use and extent of hedging transactions and
derivative financial instruments? Is their financial exposure
quantified?
[0051] (n) Does the company discuss its risk-management philosophy
and how it specifically deals with its major risks and
exposures?
[0052] (o) Has the company's auditor given a qualified opinion or
noted some deficiencies? Have the rating agencies changed their
rating of the company?
[0053] (p) What is the extent of insider stock sales? How does the
salary and incentive package of the company's senior management
compare to its industry peer group?
[0054] (q) Are benefit and pension plans over or under funded, and
how does such funding impact earnings?
[0055] (r) Are the company's liquidity and capital resources
adequate to finance its growth, capital expenditures, acquisitions,
and service its debt?
[0056] 5.1.2 Accounting Policies and Practices
[0057] Variables associated with accounting policies and practices
include, but are not limited to, whether revenue has been inflated
and whether there has been disclosure of loans, losses, and insider
dealing or trading. Rating companies' accounting practices will
focus on the degree of financial disclosure and where the
companies' accounting methods fall in the spectrum of aggressive to
conservative. Companies with more conservative policies and more
financial disclosure are awarded more points. For example, only one
star might be awarded to companies with very speculative or
aggressive accounting policies but up to five stars for companies
with very conservative accounting policies. Similarly, companies
with full financial disclosure will receive a higher rating whereas
companies having accounting practices and reports that are hard to
penetrate and difficult to understand due to their complexity will
receive a lower rating.
[0058] One of skill in the art can readily select factors,
variables, and data that could be compiled, weighted, and evaluated
to determine the conservative or aggressive nature of a company's
accounting methods. This will, to some extent, depend on the nature
of the business. For example, a company's P&L statements could
be reviewed to determine whether they clearly and completely
disclose research and development expenses; limiting restructuring
charges from ongoing operations, instead of using them as a
catch-all for a variety of purposes; write-downs of depreciable or
amortizable operating assets; pension costs and employee
stock-option-grant expenses. In this example, companies that
include such information will receive a higher rating. On the other
hand, companies that include in their P&L statements such items
as: goodwill write-offs; gains and losses from asset sales; pension
gains; unrealized gains and losses from hedging activities; merger
and acquisition expenses; and litigation or insurance windfalls
will receive fewer points. One of skill in the art can readily
adapt or develop software applications to compile and evaluate such
data.
[0059] Examples of specific aggressive and fraudulent accounting
practices are listed below:
[0060] (a) Revenue recognition issues and inflating revenue-- so
called "swap or wash trades", "round-trip" transactions, "stuffing
the channels", barter deals and vendor-financing arrangements that
may have boosted revenue but lacked economic substance;
[0061] (b) Self-dealing and insider trading on the part of senior
corporate officers/major stockholders and the use of corporate
funds for personal loans and for personal gain;
[0062] (c) Lack of disclosure of related-party transactions and
conflicts of interest; and
[0063] (d) Adoption of aggressive accounting policies-- impacting
revenue and earnings which involved double-counting or inflating
revenue, reserves, inventories, inventory "stuffing", stock
options, pension plans, tax deferrals, investment gains.
[0064] 5.1.3 Financial Footnotes
[0065] According to the invention, the financial footnotes of
companies' public reports are reviewed for clarity, accuracy, and
completeness. If the footnotes are very clear, well written, and
complete and they accurately cover all a company's relevant issues,
then the company receives a favorable rating (e.g., a four or five
star rating). On the other hand, if the footnotes are confusing,
misleading and/or don't include information reasonably expected
based on a comparison with peer or industry group companies, then a
company would receive a lower rating (e.g., a one or two star
rating).
[0066] 5.1.4 Management's Description of Operating And Financial
Results
[0067] According to the invention, management's description of
operating and financial results is rated. This involves evaluation
of the completeness and transparency of management's commentary and
reporting contained in the various financial reports, including the
president's/chairman's letter to shareholders. For example, if a
company's management describes, in detail, its major operations;
existing and new products; operating results; deviations from plan;
major problems; potential risks in significant detail; any required
regulatory approvals; litigation; and management's future plans and
strategy, then that company receives a strong rating. If, on the
other hand, management omitted or minimized discussion of serious
or potential problems or conditions impacting earnings, revenues,
reserves, margins, default rates, costs, management, or important
issues commented on by other companies in its peer group, etc. then
that company would receive a lower rating.
[0068] 5.1.5 Corporate Governance
[0069] According to the invention, each company is rated by
comparing its corporate governance policies and structure to the
commonly accepted `best practices` of corporate governance. Areas
of corporate governance that are evaluated include, but are not
limited to, the composition of the company's board of directors
(e.g., the number of independent directors versus inside directors;
ideally, public companies should have a majority of directors
independent from senior management); the qualifications of
directors; the method of selecting and election of outside
directors (ideally, outside directors are elected by a nominating
committee of non-management directors); the company's definition of
the term "independent director"; whether the company requires
independent directors or the firms they control to receive no
income from providing services or products to the company; the
composition and duties of the company's audit and compensation
committees (ideally these committees are composed of all
independent directors); whether all related-party transactions have
been approved by the audit and compensation committees; whether the
independent directors have regular access to independent legal
counsel and whatever other expert advice that they need to
effectively perform their duties; and whether shareholders approve
all option grants to corporate officers and employees alike. It
should be appreciated, however, that as legislation affecting
corporate governance is changed and new legislation is enacted
(e.g., Sarbanes-Oxley Act) the manner in which the invention rates
a company's corporate governance policy can be adjusted to reflect
the new state of affairs.
[0070] Examples of specific governance problems are listed
below:
[0071] (a) Senior corporate officers who have received outrageous
compensation while their companies' stocks have declined
significantly;
[0072] (b) Inability of directors to detect and/or evaluate any
related-party transaction to insure the companies are avoiding
conflicts of interest; and
[0073] (c) Inability of audit-committee members to be truly
independent and to be effective in insuring adequate disclosure and
compliance.
[0074] In an alternate embodiment of the invention, various
financial factors having a correlation and relationship to quality
of earnings and accounting grading are used to determine a rating
score that is used to rank the quality of a company's financial
statements. Preferably, the financial factors chosen and the
determination of the rating score will be consistent over time but
permit flexibility to adapt when it is appropriate to do so. As a
practical application, thirty-two financial factors have been
studied for correlation and relationship to quality of earnings and
accounting grading, and fifteen of these have been identified as
being useable, supported by statistical methods and incorporated
into an active ranking process based on the strength of the
correlation. Each factor has an assigned influence weight:
[0075] High Weight Factors: The factors with the greatest
correlation and statistical significance, generally having a weight
twice that of moderate weight factors.
[0076] Moderate Weight: The factors that are correlated but which
do not fall into the high weight category.
[0077] Low Weight: The factors that are relevant but whose
statistical significance is not sufficiently strong, generally
having a weight half that of the moderate weight factors.
[0078] Of the fifteen factors, two are high weight, four are
moderate weight, and nine are low weight. The financial factors are
listed below.
[0079] 1. (High) The charge for discontinued operations is
positive. The charge for discontinued operations may be deferred to
delay the timing of recognition. In this case, discontinued
operations may be overstated in order to improve future
earnings.
[0080] 2. (High) The current quarter ratio of gross profit to net
sales has increased over the average ratio for the prior four
quarters by more than five percent. This may indicate problems in
revenue recognition and/or expenses. This is an indication that
there may be problems in the quality of revenue.
[0081] 3. (Moderate) The charge for extraordinary items is
positive. Extraordinary items may be deferred to delay the timing
of recognition. Extraordinary items may then be overstated in order
to improve future earnings.
[0082] 4. (Moderate) Any of the following is present:
impairment-assets held for use; amortization of intangibles; and
net goodwill changed from the previous quarter by more than five
percent. The timing and degree of these flows are left to the
judgment of the company.
[0083] 5. (Moderate) A restructuring charge is present. Second and
subsequent occurrences each count as 1.5 times the weight of the
first occurrence. Restructuring charges may be understated to
obscure seriousness of business conditions. Restructuring charges
may be overstated in order to improve future earnings.
[0084] 6. (Moderate) A charge for purchase R&D written-off is
present. This may be used to shift earnings to different period(s).
In practice, this is a contrarian indicator showing conservative
practices.
[0085] 7. (Low) A financial restatement has occurred. All
restatements are counted. Restatements that decrease earnings are
counted with double the weight of restatements that increase
earnings.
[0086] 8. (Low) Either of the following improves earnings by more
than two percent: loss (gain) on sale of assets-- operating; gain
(loss) on sale of assets. The timing of the sale of assets that
improve earnings may be for the purpose of boistering earnings.
[0087] 9. (Low) A charge for any of the following is present:
interest capitalized (operating); interest capitalized
(non-operating); interest capitalized (supplemental). Capitalizing
interest reduces expenses in the current period.
[0088] 10. (Low) The ratio of unusual expense (income) to sales is
greater than two percent. Unusual expense (income) may be used to
shift earnings to a future (from a prior) period.
[0089] 11. (Low) A charge for accounting change is positive.
Non-mandatory accounting changes may be used to defer earnings to a
future period.
[0090] 12. (Low) The difference in the year-over-year change in
total inventory exceeds the difference in the year-over-year
(4-quarter sum) change in net sales by more than 20% when sales
decline or by more than 10% when sales increase. Inventories
usually fluctuate relative to sales. Other changes may be the
result of business conditions or manipulation of inventory
valuation or inventory management.
[0091] 13. (Low) The charge for accounting change is negative.
Non-mandatory accounting changes may be used to increase earnings
in the current period.
[0092] 14. (Low) The charge for discontinued operations is
negative. Discontinued operations may be used to increase earnings
in the current period.
[0093] 15. (Low) The charge for extraordinary items is negative.
Extraordinary items may be deferred to delay the timing of
recognition. Extraordinary items may then be understated in order
to improve future earnings.
[0094] 5.2 Rating the Major Accounting Firms
[0095] In another embodiment, the invention relates to evaluating
and rating completeness, accuracy, and integrity of the auditing
work of the major CPA/accounting firms. These ratings will show how
well the accounting firms audit the corporate target market and
their overall track records. The financial audit rating technology
disclosed herein focuses on four major rating categories (as
summarized in FIG. 4):
[0096] 1. An average of the ratings received according to the
methods and systems disclosed in Section 5.1 above by the companies
in the corporate target market that each accounting firm
audits;
[0097] 2. Reported auditing problems and qualified opinions
concerning their clients that should have been expressed earlier,
bankruptcies, etc.;
[0098] 3. Regulatory actions, lawsuits, and/or settlements directed
at the accounting firm; and
[0099] 4. Independence of the accounting firm.
[0100] Preferably, the rating is performed annually, and is
calculated on a moving five-year average. Preferably, the major
accounting firms that audit the companies in the corporate target
market are rated. Each of the four rating categories is weighted
equally. For example, from one to five stars for each rating
category where each star is valued at one point so that the highest
possible total for each major accounting firm is 20 stars.
[0101] According to one embodiment of the invention, the following
steps are performed: (1) All the companies in the corporate target
market that the subject accounting firm represents are identified.
Each of these companies has an associated rating -as assigned by
the systems and methods disclosed in Section 5.1 above for which an
average value is calculated using a computer. (2) All of the
relevant financial public filings, reported SEC complaints/actions
and settlements, and all financial press articles (electronic and
print) for all of the corporate target market companies and all
information relating to their specific auditors are collected and
reviewed. (3) Material and information relevant to rating
categories 2, 3, and 4 is separated, reviewed, and summarized. (4)
The findings in each rating category are reviewed and analyzed. (5)
The accounting firm is rated in each rating category. (6) The
specific ratings and the general summary rating for each of the
major accounting firms is entered into a computer for computation
and analysis and for comparison with prior-period and yearly
results. (7) The rating results for each accounting firm, are
totaled, averaged, and analyzed. Each accounting firm's ratings are
compared with its peer group results, on an average basis.
Preferably, each firm's results are averaged on a yearly and on a
five year moving average basis.
[0102] 5.2.1 Average of the Ratings Received by the Companies in
the Corporate Target Market that Each Accounting Firm Audits
[0103] The ratings in connection with financial disclosure and
accounting policies of each company in the corporate target market
will reflect the performance and accounting policy and practices of
the accounting firm. The lower the corporate target company's
rating, the more poorly this reflects on the company's accounting
firm.
[0104] 5.2.2 Financial or Reporting Problems at Client
Companies
[0105] According to the invention, client-based problems are
compiled and evaluated for each accounting firm. Client-based
problems include, but are not limited to: auditing problems
reported by the client; qualified audit opinions where the
problem(s) causing the qualification were material and apparent
earlier and not noted; problems of restated earnings at their
clients; client lawsuits directed at their auditors; and client
bankruptcies.
[0106] 5.2.3 Regulatory Actions, Lawsuits and/or Settlements
[0107] According to the invention, the selected accounting firms
are examined to determine whether they are the subject of any
regulatory actions, lawsuits, settlements, or pleas. Examples
include, but are not limited to, SEC or state investigations;
enforcement actions; complaints; individual civil and class action
lawsuits and criminal lawsuits; and adverse legal settlements,
including damages, injunctions, fines, and criminal-related
settlements, pleas, and prison terms.
[0108] 5.2.4 Independence of Accounting Firms
[0109] According to the invention, each of the selected accounting
firms' histories with respect to independent action is evaluated.
Factors include, but are not limited to, whether the accounting
firm performs both auditing and consulting and other services for
the same client; whether the accounting firm perfoms the audit and
also acts as the company's internal auditor; whether the auditor
jointly generates revenues with an audit client; whether there are
financial conflicts of interest between the auditor and the client;
whether the accounting firm has had too long of a relationship with
its corporate client (ideally, the accounting firm should not work
for more than five to seven consecutive years for the same client);
and whether the accounting firms have a history of having its audit
personnel join the client corporation after they leave the
accounting firm.
[0110] In view of the above discussion and disclosure it can be
seen that in one embodiment, the invention is directed to a
corporate financial reporting and rating system, comprising a web
server storing information respecting a plurality of selected
companies, the information concerning one or more of the following
rating categories:
[0111] (a) accounting policies and practices;
[0112] (b) financial footnotes;
[0113] (c) management's description of operating and financial
results;
[0114] (d) areas of concern or potential financial exposures;
and
[0115] (e) corporate governance,
[0116] the web server providing a user with a rating for each
company in each rating category. Preferably, the plurality of
selected companies comprises the S&P 500.
[0117] In another embodiment, the invention relates to a method of
rating a plurality of companies comprising:
[0118] (a) analyzing each company in rating categories of:
[0119] (i) accounting policies and practices;
[0120] (ii) financial footnotes,
[0121] (iii) management's description of operating and financial
results,
[0122] (iv) areas of concern or potential financial exposures,
and
[0123] (v) corporate governance;
[0124] (b) assigning a rating for the company in one or more of the
rating categories; and
[0125] (c) providing a rating report based on the ratings assigned
in the one or more rating categories.
[0126] Preferably, the rating categories of (a) accounting policies
and practices; (b) financial footnotes; (c) management's
description of operating and financial results; and (e) corporate
governance are weighted about equally and the rating category of
(d) areas of concern or potential financial exposure, is weighted
higher, more preferably, the rating category of (d) areas of
concern or potential financial exposure, is weighted from about 50%
to about equal to the total available points.
[0127] In a preferred aspect of this embodiment, the method further
comprises uploading the rating report to a web server. In a second
preferred aspect of this embodiment further comprises downloading
the rating report from the web server to a computer.
[0128] In another embodiment, the invention relates to an
accounting firm reporting and rating system, comprising web server
storing information respecting a plurality of selected accounting
firms, the information concerning one or more of the following
rating categories:
[0129] (a) an average of the ratings received by the companies in
the corporate target market that each accounting firm audits;
[0130] (b) reported auditing problems and qualified opinions
concerning their clients that should have been expressed
earlier;
[0131] (c) regulatory actions, lawsuits, or settlements; and
[0132] (d) independence of the accounting firm, the web server
providing a user with a rating for each accounting firm in each
rating category.
[0133] In another embodiment, the invention relates to a method of
rating a plurality of accounting firms comprising:
[0134] (a) analyzing each accounting firm in rating categories
of:
[0135] (i) an average of the ratings received by the companies in
the corporate target market that each accounting firm audits;
[0136] (ii) reported auditing problems and qualified opinions
concerning their clients that should have been expressed
earlier;
[0137] (iii) regulatory actions, lawsuits, or settlements; and
[0138] (iv) independence of the accounting firm,
[0139] (b) assigning a rating for the accounting firm in each of
the four rating categories; and
[0140] (c) Preparing a rating report based on the ratings assigned
in the one or more rating categories. Preferably, each rating
category is weighted equally.
[0141] A preferred aspect of this embodiment further comprises
uploading the rating report to a web server.
[0142] A second preferred aspect of this embodiment further
comprises downloading the rating report from the web server to a
computer.
[0143] Although the present invention has been described in
considerable detail with reference to certain preferred embodiments
and versions, other versions and embodiments are possible.
Therefore, the spirit and scope of the appended claims should not
be limited to the description of the versions and embodiments
expressly disclosed herein.
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